Dr. Behzad Nazari at his remaining dental clinic in Houston on Friday, April 25, 2014. Nazari sold two of three Antoine Dental clinics after the state began withholding Medicaid payments while they investigated the clinics for fraud.

Editor's Note: This story has been updated throughout to reflect the state's decision to cancel its contract with the Texas Medicaid and Healthcare Partnership, and the company's response to the state's actions.

As the Texas Attorney General's office on Friday announced it filed a lawsuit against state contractor Xerox, in an effort to reclaim hundreds of millions of dollars the company allegedly erroneously doled out for medically unnecessary Medicaid claims, the Health and Human Services Commission also notified the contractor that it plans to terminate its contract.

“Xerox’s unlawful acts resulted in a substantial breach of safeguards intended to protect taxpayer dollars, maintain the integrity of Medicaid policies, and ensure the appropriate delivery of services to Medicaid clients,” the state’s legal complaint alleges. “Xerox permitted an unprecedented loss of Medicaid funds to predatory and unscrupulous dental providers. As a result of the conduct of both Xerox and these providers, the Medicaid program was deeply compromised.”

The lawsuit was filed in Travis County district court, and the state has asked for a jury trial.

“Unfortunately, this misdirected lawsuit focuses on Xerox rather than on the dentists who took advantage of the program,” a Xerox spokesman, Kevin Lightfoot, said in a statement. “We have never engaged in fraudulent activity and always operated with complete transparency.”

The state is terminating its contract with the Texas Medicaid and Healthcare Partnership, a Xerox subsidiary. Instead, the state plans to sign a three-year agreement with Accenture, a different subcontractor under Xerox, to take over TMHP’s role in processing Medicaid claims on August 1. Then, the state will conduct a competitive bidding process to select a new contractor. Accenture has operated the state’s Medicaid claims payment system since 2004.

"Xerox failed to perform the medical reviews that our contract required and taxpayers deserved," Health and Human Services Executive Commissioner Kyle Janek said in a statement.HHSC will break the large contract into as many as five contracts to make it easier to take action against a vendor without disrupting medical care for people with Medicaid, the agency explained in a press statement. The agency had previously contended that it continued its contract with TMHP, despite its allegations of problems in claims processing, because the state worried Medicaid patients would lose access to care if the arrangement was canceled.

Lightfoot said the company would continue serving Medicaid beneficiaries in Texas to ensure that there isn’t a disruption in services while the state transitions its contract."The agency absolutely made the right call to hold this contractor accountable and recover these taxpayer dollars," state Sen. Jane Nelson, R-Flower Mound and chairwoman of the Senate Health and Human Services Committee, said in a statement. "We entrusted the contractor to be responsible stewards of our taxpayer dollars, that trust has been broken, and we want our money back.”

HHSC contracted with TMHP in 2004 to process Medicaid claims. In December 2011, an investigation by WFAA-TV in Dallas revealed that Texas was spending more on Medicaid orthodontic services than the nation’s nine other most populous states combined. The company had employed only one dentist to review thousands of monthly claims, according to a federal audit of the Texas program in 2012, and was “essentially rubber-stamping” dental claims.

The lawsuit alleges that under the company’s watch, Texas spent $1.1 billion on Medicaid orthodontic services from January 2004 to March 2012. The lawsuit does not specify how much money the state believes it overpaid providers as a result of Xerox’s actions. Instead, the state alleges that as a result of the contractor’s actions, “hundreds of millions of dollars in payments were made for services not performed and orthodontic benefits not authorized by Medicaid policy,” and that the company received “tens of millions of dollars” for services it did not perform.

If the AG's office prevails in the lawsuit, it is seeking to recover twice the amount that the court decides the state lost as a result of the company’s actions, plus interest on the amount of money lost, compensation for the state’s legal costs, and civil penalties between $5,500 and $11,000 for each “unlawful act committed by” the company, according to the lawsuit.

Jim Moriarty, a private practice attorney hired by the HHSC’s office of inspector general to assist with the state’s investigations of Medicaid providers, estimated that the AG’s lawsuit, if successful, could result in up to $2 billion in damages and penalties.

A week before the lawsuit and contract cancellation, a Texas Tribune investigation reported that more than two years after identifying alleged overspending on Medicaid orthodontics, the state had not severed its multiyear contract with TMHP, a Xerox subsidiary, worth hundreds of millions of dollars. The HHSC's current five-year contract with TMHP is valued at $759 million. From 2011 to 2013, the state paid the contractor $527 million to process Medicaid claims, despite concerns as early as 2008 that it was not properly reviewing dental claims. A state audit that year found that the contractor had one dentist who reviewed roughly 10 percent of orthodontic claims. Employees without dental licenses reviewed the remaining claims, which the audit suggested was problematic.

Since 2012, Texas health officials have reeled in spending and pursued legal action against health care providers who billed for the services.

“It has always been and continues to be our objective to reach a resolution with HHSC and the state on their concerns,” Lightfoot said, “and hopefully we can find a path forward to attain a reasonable result to address our differences.”